Coach Shows Strong Revenue Growth, but Margin Decline Poses Concerns

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Coach ( COH ) reported strong revenue growth in its recently released fiscal Q3 2011 earnings and the market reacted positively to the news, pushing Coach stock up. Sales for the quarter increased to $951 million, up 14% from the same period last year. Coach is the leading American marketer of luxury lifestyle handbags and other fashion accessories and competes with other premium apparel and accessories players like Polo Ralph Lauren's ( RL ), Liz Claiborne ( LIZ ) and AnnTaylor ( ANN ).

We currently have a $57.49 price estimate for Coach , about 5% below market price.

Despite strong revenue growth, the firm reported a decline in its gross margin in fiscal Q3 over the same period last year. Continued margin pressure could spur downside to our price estimate for Coach stock.

Margins May Further Decline

Coach has historically enjoyed among the highest gross margins in the apparel and accessories industry, a metric that has greatly contributed to the firm's profitability and growth. However, Coach's gross margin decreased to 72.8% in the quarter, down 1.3% from the same period last year, primarily as sourcing costs increased. The rise in sourcing costs indicates a long term trend (as the living standards and cost of labor increase in outsourcing locations) and may lead to a continued decline in Coach's gross margin going forward. Coach's strategic shift towards retail operations will put further pressure on margins, as the firm's enjoys significantly lower margins on its retail stores than on its wholesale operations.

We currently forecast the EBITDA margin on Coach handbag sales to decrease from 35% in 2010 to 32% in 2012 and remain steady beyond 2012. However, the above-mentioned factors could create a continued decline in margin across Coach product segments. If, for example, EBITDA margins across Coach product segments decline to 27% by the end of our forecast period, it would imply 10-15% downside to our $57.49 price estimate for Coach stock .

See our complete analysis of Coach stock here



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , Investing Ideas , Stocks , US Markets

Referenced Stocks: ANN , COH , LIZ , RL

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